Environmental flow allocation and counter-cyclical trading in the River Murray System

Australia's climate is characterized by highly variable rainfall. As a consequence, many aspects of riverine ecosystems need both very wet and very dry periods to function effectively. This contrasts with water demands from industrial and agricultural sectors, which place a premium on access to a constant supply of water. This combination of demands suggests there could be considerable value in using water banking and trading mechanisms to reduce the social cost of achieving environmental objectives. In this paper, the concept of counter-cyclical trading is outlined and influences on its potential for reducing the cost of achieving environmental flow objectives evaluated. The potential value of using mechanisms to enable counter-cyclical trading across low and high flow years is evaluated using a simple model. The model combines aspects of the natural, engineered and economic systems in place. Broadly these are: the ecosystem requirements of natural systems (described in terms of the frequency of flow objectives); the nature of the current flow regime (inherent in a combination of climatic variation and the regulation of water flows through the system); and the nature of the water market (captured in the shape of the short run demand curve). The potential value of counter-cyclical trading is evaluated with specific reference to environmental flow banking and trading systems currently operating in the River Murray System. Risks associated with trading are briefly discussed, and some links are made in the context of the state of water market reform in the Murray-Darling Basin.